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Health Management Associates reported adjusted loss of 1 cent in the third quarter of 2013, registering a drastic fall from earnings of 22 cents in the year-ago quarter. The result also laffed the Zacks Consensus Estimate by  17 cents.

Despite disappointing third-quarter results, HMA’s share price increased 5.7% to $13.24 on Nov 13 on the back of encouraging news concerning the company’s merger deal with Community Health Systems Inc. (CYH - Snapshot Report).

Adjusted earnings were calculated excluding an impact of approximately $18.9 million, or 4 cents per share, on grounds of interest rate swap accounting and market-to-market adjustments on the swap, along with $102.9 million, or 32 cents per share due to change of control (overhaul of the Board of Directors), severance and merger related costs.

Net revenue slipped 1.2% to $1,421.2 million, slightly missing the Zacks Consensus Estimate of $1,455 million. Same hospital net revenues were $1.4 billion while same hospital net revenues per adjusted admission dipped 3.1% in the quarter.

HMA’s provision for doubtful accounts was $255.4 million, or 15.2% of net revenues before the provision for doubtful accounts, compared with $224.1 million, or 13.5% in the third quarter of 2012.

Uninsured self-pay patient discounts were $387.7 million versus $334.7 million in the comparable year-ago period. Charity/indigent care write-offs were $26.8 million compared with $28.1 million in the same quarter a year ago.

Balance Sheet

Health Management Associates had cash and cash equivalents of $1.3 million as of Sep 30, 2013, significantly down from $59.2 million as of Dec 31, 2012. Long-term debt rose to $3.6 billion as of Sep 30, 2013, compared with $3.4 billion as of Dec 31, 2012.

In the first nine months of 2013, cash flow from operating activities fell to $120.2 million from $458.1 million in the same period of 2012. Capital expenditure decreased to $207.7 million compared with $282.3 million a year ago.

Guidance Lowered

Based on the weak third-quarter results, pressure on the top line and ongoing weakness in admissions, HMA lowered its outlook for 2013. Net revenue (before the provision for doubtful accounts) are expected to range between $6.84 and $6.86 billion. Earlier, in July 2013, net revenues (before bad debt expense) were envisaged in the band of $6.80−$7.00 billion, which included the positive impact from the company’s stake in Bayfront Health System.

Health Management forecasts EPS from continuing operations in the range of 48−50 cents, down from the prior guidance of 59−70 cents (excluding interest rate swap expense of $75−$85 million). Current guidance includes an impact of $60−$65 million of expected HCIT payments in the fourth quarter and $10−$15 million of anticipated negative impact associated with Blue Cross/Blue Shield relations in Mississippi during the same period.

CYH-HMA Merger

On the other hand, the merger agreement with Community Health Systems continues to proceed on the right track, with expected completion in the first quarter of 2014. On an encouraging note, HMA’s Board of Directors has unanimously approved the merger transaction. As a result, despite disappointing third-quarter results, HMA’s share price increased 5.7% to $13.24 on Nov 13.

According to the agreement, Community Health Systems will take over Health Management for about $7.6 billion (including the latter’s debt of $3.7 billion) in cash and stock. HMA stockholders will own about 16% of the shares of the combined entity following the completion of the transaction.

Our Take

Promising news regarding the CYH-HMA deal completely overshadowed the weaker-than-expected third quarter results and the bleak outlook for the rest of the year, and boosted investor confidence in the HMA stock.

We view the buyout of Health Management Associates by Community Health Systems in a positive light, as HMA was struggling with lower profits and sluggish market conditions. The merger is the best available option to salvage the company at present. The combined entity will be better positioned to adapt to the evolving healthcare reforms in the U.S. (Affordable Care Act) and the attractive industry dynamics.

Further, the takeover is a strategic fit for CYH as HMA’s operating structure complements its business. Community Health also expects to extend its geographic foothold in the country on the back of this lucrative buyout. The approval by the Board of Directors at Health Management boosted Community Health Management’s shares by 2.15% to $43.25 on Nov 13.

Currently, HMA has a Zacks Rank #3 (Hold). Some preferable stocks from the med-hospitals industry include Acadia Healthcare Company, Inc. (ACHC - Snapshot Report) and HCA Holdings, Inc. (HCA - Snapshot Report), both of which carry a Zacks Rank #2 (Buy).

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